A brilliant year for equities despite concerns about the economy

A look back at 2019, which is almost over, shows that the trade dispute has weighed heavily on investors. (Image: Shutterstock.com / Min C. Chiu)

Despite recession fears, trade disputes and Brexit, major stock indices around the globe have risen 10% or more since the beginning of the year, as Marc Brutsch of Swiss Life writes. The reason for this development is the U.S. Federal Reserve's turnaround in monetary policy.

The year coming to an end started under unfavorable omens. The long upswing in the equity markets experienced a significant damper at the end of 2018, writes Marc Brutsch, Swiss Life's chief economist, in his review of the year. Media and investors were increasingly fearful of a recession. Uncertainty was caused by three major political flashpoints, namely the Sino-American trade dispute, Brexit and Italy's fiscal budget. In addition, monetary policy in the U.S. also weighed on the stock market at this time. In January 2019, for example, the U.S. Federal Reserve was still expected to raise key interest rates two to three times.

Brutsch says of developments in the US: "Was it his gut feeling, or was Donald Trump simply well-advised when, in the final quarter of 2018, he began to take the precaution of blaming the US Federal Reserve for a possible recession?? The history of election campaigns in the U.S. shows that a significant slowdown in the economy puts the president's re-election at risk. And we also know from history that three of the last four Fed rate hike cycles have resulted in recession."

But things turned out differently: the Fed did not raise the key interest rate further in 2019, but lowered it in three steps by a total of 75 basis points. As a result, a much-watched signal of a coming recession, namely an inverted yield curve, disappeared again in the USA. The U.S. Federal Reserve has thus countered this trend and, according to Brutsch, taken the fear that an overly restrictive monetary policy would slow down the pace of the U.S. economy too much off the table.

No interest rate hike in Europe

While the cycle of interest rate hikes in the U.S. has already come to an end, it has never even begun in Europe. The European Central Bank (ECB) has also eased its monetary policy in the meantime. "The relaunch of the ECB's purchase program was Mario Draghi's parting gift to Christine Lagarde, his successor at the helm of the ECB. When the ECB's corresponding plans took shape in the summer, there was speculation that the Swiss National Bank would also have to drop its key rate even deeper into negative territory", says the chief economist. As a result, the yield on a bond issued by the Swiss Confederation fell on the 15. August 2019 to a historic low of -1.12%. But because the SNB limited itself to foreign exchange intervention, long-term yields in this country rose more than in neighboring eurozone countries by the end of the year.

Unlike in the U.S., however, discussions in Europe about an impending recession did not revolve solely around monetary policy, says Brutsch in retrospect: "Confidence among European entrepreneurs suffered from the triple political uncertainty surrounding the trade dispute, Brexit and the conflict between Italy's coalition government and its partners in the rest of the Eurozone. Italy's new elections have averted the danger of a renewed debt crisis in the euro zone, at least for the time being. Even a Brexit without a treaty was recently considered a very unlikely scenario again."

Trade dispute weighs on European economy

However, the trade dispute between the USA and China is having the greatest impact on the economy in Europe. Especially the export-strong countries like Germany, Switzerland and Austria, but also Sweden and the Czech Republic suffer from the danger of protectionism. In Switzerland, according to Brutsch, the MEM industries' trade association Swissmem reported a decline in orders received of around 20% for the second quarter compared to the same quarter of the previous year. Germany's automotive industry and its suppliers are particularly affected by the drop in demand. Brutsch explains: "In the last decade, too much investment has been made in this sector and too many jobs have been created. Overcapacities had to be reduced in 2019. It's no exaggeration to talk about certain industries in Europe being in recession in 2019."

According to the expert, it might come as a surprise at first glance that the main indices of the most important stock markets in mainland Europe rose by double-digit percentages throughout the year, just as they did in Japan and the U.S. Part of the explanation for this astonishing performance is provided by the companies themselves, says Brutsch: "The majority of listed companies still manage to exceed analysts' expectations for their financial statements quarter after quarter. More importantly, however, is the continuing influence of monetary policy. The U-turn by the US Federal Reserve has shown it in 2019: Investors lack alternatives to tangible assets such as stocks or real estate in times of financial repression."

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